The Evolution of Risk and Return in High-Velocity Settings

Despite much research, debate continues about the impact of risk taking on a firm's future performance. Unlike prior studies, we propose that risk-return relationships evolve as firms age and learn, particularly in high-velocity settings where accumulated knowledge affects how firms respond to technological change. Discerning this requires three things absent from prior analyses: (1) studying an entire population; (2) modeling evolutionary processes; and (3) using separate models to capture how a firm's gains and losses (i.e., its strong and weak performances) unfold across time. Using this framework, we found that (a) risk-return relationships generally evolved from positive to negative as firms aged; because (b) firms learned to avoid large losses at younger ages than they learned to sustain large gains; yet (c) the risk taking that followed below-aspiration performance moderated those effects such that major setbacks prompted large future gains and large future losses among older firms and downward spirals among younger ones. 2 Relationships between risk and return are central to our lives. In the hope of emotional or monetary rewards, some people take risks by climbing mountains, changing employers, or switching careers. Some executives take risks in pursuit of better pay and enhanced reputations, and some firms pursue risky strategies in a quest for higher sales and profits. Many studies have considered whether it pays firms to take risks. Some indicate that it does, findings consistent with economic theory, which contends that decision makers demand higher returns in exchange for undertaking projects with greater uncertainty (e. In contrast, other studies indicate that risk is negatively related to performance (e.g., Miller & Bromiley, 1990). One explanation is that some firms have rare competencies that enable them to perform consistently at a high level (Bowman, 1980). Another, based on prospect theory (Kahneman & Tversky, 1979), suggests that troubled firms take unwise risks on long shots in an attempt to recoup prior losses. As Bromiley (1991: 55) states: " The interesting part of risk seeking by [troubled firms] is not simply that poor performers take more risks, but rather that they take bad gambles – risks with low expected values. " Despite substantial progress over the past 20 years, much controversy remains about risk-return relationships, which we address by taking a new approach, both theoretically and empirically. To do this, we ask: How do relationships between risk and return evolve across time as organizations age and learn, particularly in high-velocity settings …